How to Improve Your Credit Score

Whether you are planning to buy a new iPhone on EMI, or to take a loan for a vacation, car, or home, your credit score is one thing that’ll follow you everywhere. Most people don’t fully understand credit scores and for some they are just a ‘number’ given to a person based on their borrowing and spending patterns. Understanding credit scores can not only help you understand the system better, but also help you to improve your own credit score.

Introduction to Credit Scores:

Credit Scores are calculated by independent firms, which analyze your past and current behavior with respect to credit obligations. Most companies design credit scores for different purposes like that for auto loans, home loans and credit cards. There are different credit scores for insurance products, cell phone, utility services and more. You as a consumer may only be aware of your ‘consumer score’ which one can check from a credit bureau.

People with higher credit scores usually get access to better priced loans, and may even end up paying lower for insurance premiums than those with lower credit scores. For this reason, many people not only pay regular attention to their credit score but also work to improve it as much as possible. The strange part is that credit scores can change year on year even if you don’t do much. This makes credit scores a bit unpredictable for masses. Part of the ambiguity lies in the fact that most people believe that their credit score is actually their creditworthiness. In reality however, it is your creditworthiness compared to the rest of the population. Which is why, your score depends not only on your behavior, but also on the behavior of others, and can change over time even if you aren’t currently borrowing or repaying a loan.

This clarifies that a credit score is not your ‘score’ but instead it’s your ‘rank’ of creditworthiness among the general population of the given region or country.

Another interesting thing is that different organizations can give you different scores as they may not use the same parameters and/or assign the same weightage to each parameter for ranking.

So how is a Credit Score Calculated? Exactly how Credit Scoring companies determine your credit score is a tightly guarded secret, which most companies hold very close to their hearts. However, there are a few common factors, listed under the Fair Isaac Corporation FICO method, mentioned below. FICO was the first company that came up with the concept of a credit score and is still widely followed for their basic guidelines:

• Payment History (35%): This is the single most important factor that affects your credit score. Did you miss paying your EMI on time for a given month? It’ll factor into your credit report. Everything from the length of your positive credit history, to how long you’ve gone without a red mark and if you have unpaid debts and foreclosures. All of these will be determining factors for your credit history.

• Outstanding Debt (30%): If you’ve recently taken a huge home loan, it may prove to be a negative factor if you re-apply immediately for a car loan, as your overall ability to re-pay is already burdened by your home loan.

• Credit History Duration (15%): Duration of credit history is another important factor, and a long positive history is directly proportional to a higher score. This not only includes the time since account activation, but it also considers account usage history.

• Value of New Credit (10%): How much debt you’ve taken is also a checkpoint. If you’ve suddenly taken on a huge debt or have overextended yourself, then your repayment pattern will be closely monitored.

• Types of Credit (10%): If you’ve got a mix of different credit types with a positive history, then you’re score his higher. As this implies that you manage and repay multiple loans/ debts at the same time.

Knowing your Credit Score

A credit score isn’t fixed and it can be worked upon year after year. After all, a higher credit score can save you thousands over a lifetime. Before we get to that, lets us understand how your credit score works, and why it matters so much to have a higher value.

Your year-on-year credit score is eventually put together to create your “Credit Report”. This report contains much more than just your borrowing and repayment patterns. It contains a detailed history of how you’ve paid your bills, how much open credit you have, and your overall creditworthiness. It all comes down to a simple three digit number that helps your future lenders to predict if you’ll be able to repay the loan you borrow from them. This score was hidden from consumers until as recently as 2001. Things changed afterwards, and people are now allowed to view their credit score for a nominal fee.

In some countries, there are both public credit reporting agencies called public registries and private reporting agencies. You’ll find different systems working differently across the world. Some public registries report only negative information while some others do a balanced reporting.

In India, if you want to know your score, you’ll need to approach the Credit Information Bureau (India) Limited (CIBIL). CIBIL was founded in August 2000 and since then played an important role in India’s financial system.

Accessing your Credit Score:

In India, you are likely to approach CIBIL for your credit score. CIBIL scores range from 300 – 900, 300 being the lowest. As per CIBIL, most people with a score over 700 have a 90% chance of getting their loan approved, and the 750 to 900 range is considered to be excellent. The CIBIL algorithm has over 258 different variables. The other agency for consumer credit score is Equifax which has a scoring scale between 1- 999.

How to get your CIBIL score online

• Go to https://www.cibil.com/ and click on ‘Know your Score’

• Fill up the online form with basic details like name, date of birth, address and loan history

• Accept the T&Cs and pay the required fee

• Authenticate yourself by answering 5 questions on your credit history, and get at least 3 right.

• If you’ve answered correctly, you’ll receive your credit report via email within 24 hours.

Improving your Credit Score

Start by paying all your bills on time (and not just your credit card bill). And paying on time doesn’t necessarily mean that you pay one day before your due date. Try to make some pre-payments on your current outstanding loans with higher interest rates. Aim to clear them before the tenure completion.

• Did you know that debit cards can also help in improving your score? A debit card serves a double purpose of helping you score while avoiding credit-card debt.

• Credit Linked Capital Subsidy Scheme for Technology Upgradation (CLCSS): The Ministry of Small Scale Industries (MSSI) created the CLCSS which provides upfront capital subsidy of 15% (max 15 Lakh) to SSI units which can be used for plant & machinery modernization.

• Don’t take additional credit cards or even inquire about them unless you really require one. Applying for an additional credit card may negatively affect your score. You can always research online but apply only if you have to.

• Avoid buying a new car, bike and home all in the same year. Space out purchases as much as possible, so that you aren’t financially burdened and can make your repayments on time.

• Don’t max out your credit card, this will probably indicate that you’re spending above your means. It’s not the best impression to make. Instead, spread your spending over multiple cards so as to not max out one. Ideally, a 10% utilization ratio on credit cards helps in improving your overall score. Additionally, if you’ve made some bad finances with your credit card, don’t cancel it, as it leads to negative scoring.

• Don’t take a new loan to repay an existing one. It’s not a good idea.

• If you don’t have a credit history, then create one: Many first timers don’t have a credit history which may make banks indecisive about lending to them. In such cases, open a fixed deposit in any bank, and apply for a credit card against it. Use your card as required, but pay your card bills on time!

• Don’t withdraw cash using credit cards: It sets an example of bad money management.

• Don’t go for a joint credit card with your partner: If you have a joint loan, both your credit histories will be checked and if anyone has poor history, it may cause problems.

While education doesn’t directly impact your credit score, prospective lenders may use it as surrogate check for determining your stability. Your income may not be a decisive factor, but getting ahead in your career matters. Stagnating or even regressing can be a downer. With consistent effort, you can not only improve your credit score but also save a lot by getting better interest rates on your future borrowings.

The best part however, is that there are companies which help you improve your credit score. You may work on improving your credit score yourself, or take help of an external consultant who’ll guide you at every step of the way.